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A question that many people are facing if they have extra money left at the end of the month or if they hold savings, should they use it to pay off debt or to start/increase their pension contributions?

The answer is not straight-forward and, if you ask different financial advisors, it is unlikely that you will get a uniform response. The answer to this will depend on your own individual financial situation.

There are different types of debt such as credit cards, personal loans and mortgages, each of which should be approached differently when considering paying them off. As of July 2023, the average credit card interest rate was over 22%, personal loan interest rates will vary dependent on the loan purpose and size, but you are likely to pay over 8% for loans under €10,000. Most mortgage holders have benefitted from very low rates over the past 10 years or so; however, we have seen interest rates increasing rapidly in the past 12 months.

The main advantages of paying into a pension are the tax relief benefits and tax-free growth during the savings term. The average stock market return for the S&P 500 for the last 30 years is slightly under 10% and, when added to the tax relief granted to personal contributions, can make long term pension savings very attractive.

The best thing to do is to evaluate your debts and make a list of them, including the current balance, minimum payment and interest rate. Any debts with high interest rates such as credit cards should stand out and it might be worth considering paying these off before you pay any extra money into your pension.

The second important consideration is that you have an emergency fund in place. This can help meet any unexpected costs such as car or home maintenance issues. The nature of emergencies is that they are unpredictable and having an emergency at the most inappropriate time is all but guaranteed! It is recommended that you have 3 to 6 months of living expenses saved in your emergency fund. This is not money that is invested in the stock market but rather money that is sitting in a capital guaranteed account with the bank or the credit union.

When you have saved an emergency fund and paid off your high interest debts you can then plan to use any excess money that you have each month towards pension contributions. Right now, the chances are that you will average a higher return on a long-term pension investment than you are charged on your mortgage and if you wait to start your pension until your mortgage has been paid off you might never do it! So, in this scenario a two-fold approach is often best, affordability allowing, you pay some money into your pension alongside repaying your mortgage.

Paying into a pension provides the following benefits which will help your fund to grow over time:

1. You will get tax relief at your marginal rate on any contributions that you make. At the very minimum, if you pay tax at the lower rate, a monthly pension contribution of €200 would only reduce your income by €160.
2. The money in your pension will grow tax free. This means that it will be easier to accumulate growth than if you invest the money personally, where the growth could be taxed at 41%.
3. You will not be able to access a pension fund until retirement so you will not end up dipping into your retirement savings to pay for things such as a last minute holiday.

If you have any questions about starting a pension or increasing your contributions towards a pension as opposed to paying off debt, I highly recommend that you talk to a trusted Financial Advisor. It is often easier for someone who is not involved in your budget, to look at it from an outside perspective and guide you as to what might be the best decision from a financial standpoint!

Robert Downes QFA RPA is a Qualified Financial Advisor and Retirement Planning Advisor. You can contact him through John F. Loughrey Financial Services by telephone on 074-9124002 or by email on robert@jfl.ie